Tuesday, April 4, 2017

MCA’s Notification for Enhanced Exemptions Under the Merger Control Regime

[Guest post by Varun Thakur, BA.LL.B fourth year student at National Law University, Jodhpur.]

In a notification dated 27 March, 2017, the Central Government, exercising its powers under the Competition Act, 2002 (‘the Act’), has issued a notification containing certain clarifications for easing compliance under the merger control regime. These interpretations are aimed at ensuring the ‘ease of doing business in India’ and, to a certain extent, do achieve this objective. The purpose of this post is to analyze these clarifications and examine to what extent such a notification will benefit the M&A landscape in the country.

De Minimis Exemption

The small target exemption, or as popularly called the ‘de minimis’ exemption, was introduced in 2011 to ensure that a combination involving a small target (i.e., less than Rs. 350 crore in assets and Rs. 1000 crore in turnover) is exempted from notification to the Competition Commission of India (‘CCI’). The rationale herein was to essentially exempt transactions involving very small targets and large acquirers which otherwise get notified due to the size of the acquirer.

However, strangely, this small target exemption was only applicable to transactions structured as ‘acquisitions’ but were not applicable to ‘mergers’ or ‘amalgamations’. This artificial distinction seemed absurd as the potential anti-competitive effect of an acquisition and a merger is necessarily the same. This is evidenced by the fact that the amounts provided under the ‘asset’ and ‘turnover’ threshold are same for transactions structured as an acquisition or a merger. Furthermore, this was more problematic for transactions structured as ‘reverse triangular mergers’ which are quite a popular structure for taxation purposes. The question then was, how these transactions would be interpreted, especially in light of the ‘small target’ exemption? The CCI’s practice so far has been to accept the structure that the parties to the combination submit.[1]  As a result, in different combination notifications, parties submitted their transactions either under section 5(a) as ‘acquisitions’ or under section 5(c) as ‘mergers’ or ‘amalgamations’. The CCI has not taken upon itself to clarify the exact structure of such reverse triangular mergers, and there always existed an ambiguity in this regard.

Now, according to the notification dated 27 March, 2017, such ‘small target exemption’ is now applicable not just to acquisitions, but also to mergers and amalgamations. The assets and turnover thresholds remain same at Rs. 350 crore and Rs. 1000 crore respectively of the target entity. This exemption now will remain in force for a period of five more years until 2022. This is a welcome move since there existed an artificial distinction without any rationale, and now this would enable mergers to take benefit of this exemption.

Relevant Assets or Turnover

Prior to this notification, where only a part of the business or division of assets of an enterprise was being acquired or merged, the computation of assets and thresholds was of the total assets or turnover of both the acquirer and target enterprise. Thus, while Company A acquires a part of the business of Company B, the complete turnover or assets of both A and B were considered for computation, including the business or division of the target not being acquired. Thus, a multiproduct company selling a small business through a slump sale will have to include the assets or turnover of the entire company.

However, as per the notification, in such a situation, the revised method now would be to include only the value of the asset or turnover of such portion of an enterprise or division or business as is being acquired or taken control of. Thus, the essential test now is that of the ‘relevant assets and turnover’. This will thus ease notification requirement where the transaction is in the form of a demerger or slump sale. This would exempt those transactions which possibly involve acquiring a small part or portion of another business. This is likely to ensure that many such transactions are exempted from notification benefitting parties and also reducing the workload of the CCI which is already overburdened.

Misses

While the government can be lauded for removing much needed ambiguities that were present in the Act, certain major ambiguities continue to exist. One of the main issues present in the framework of the Act is with respect to the correct method of computation of penalties for violations under anti-competitive agreements and abuse of dominance. In accordance with section 27(b) of the Act, the penalty for such violations is a maximum of ten percent of the average of the turnover for the past three financial years. Thus, as per the provisions of law, penalty is to be computed according to the ‘average turnover’ of the enterprise in question. Arguably, such an interpretation can often be extremely harsh for enterprises which manufacture multiple products or has multiple divisions of business. Since the penalty is based on ‘average turnover’, the penalty would also be computed from those businesses which possibly have no nexus with the products/business which face scrutiny. Accordingly, the quantum of penalties consequently increase and this operates harshly for defaulting enterprises.

While the CCI has been given broad powers under section 27 of the Act, so far it has not corrected the existing anomaly. The COMPAT however in the Excel Crop order[2] corrected this CCI interpretation and held that the correct method in such situations is to penalize an enterprise based on the ‘relevant turnover’. Such relevant turnover includes computation of penalty of the segment or division of business which is scrutinized and found guilty for any anti-competitive activity, and does not include parts of the business having no nexus. This was similarly followed by the COMPAT in the LPG Cylinder Case,[3] Autoparts Case,[4] National Insurance Case,[5] amongst others. However, this still goes against the literal words of the statute, and the interpretation taken by COMPAT thus is more of a harmonious interpretation to address a possible anomaly. Resultantly, the correct interpretation of the penalty is still an open debate.

The CCI ,disagreeing with the COMPAT order in Excel Corp, had filed a review petition in the Supreme Court challenging such an interpretation of average turnover to be the relevant turnover. Interestingly, the COMPAT itself has not followed its practice of using the relevant turnover test as evidenced by a later order in DLF v. CCI.[6]

While we still await the Supreme Court’s ruling Excel Crop Care, it would have been a relief to see a notification clarifying this issue. This is especially so when the CCI has proceeded to prescribe a relevant asset and turnover test for the purposes of a combination notification. A logical extension would have been to also make reference to relevant turnover when interpreting average turnover.

- Varun Thakur




[1] Johnson/Tyco, Combination Registration No. C-2016/02/376; Computer Sciences Corporation/Hewlett Packard Enterprises Limited, Combination Registration No. C-2016/06/411; Konecranes Plc. /Terex Corporation, Combination Registration No. C-2015/09/307, etc.
[2] Appeal No. 79 of 2012
[3] Appeal No. 47 of 2015
[4] Appeal No. 60 of 2014
[5] Appeal No. 96 of 2015
[6] Appeal No. 20 of 2011

1 comment:

vswami said...

IMPROMPTU
If not mistaken,for the purposes of income-tax- more specifically for the purpose of qualifying for tax exemption on 'transfer' (sec 47 of the IT Act),the terms 'merger' and 'amalgamation' have been specially explained. As such,prima facie, the tax effect or consequence of the subject Notification by MCA, only for its limited purpose(s), nonetheless necessitates , and requires, a fresh look at and anxious consideration by company law and tax experts, alike.
Any eminent thoughts to share !